Definition of Net profit margin
Net profit margin is the profit margin percentage of revenue after deducting all the operating expenses, interests and taxes.
Net profit margin can be calculated as follows.
Net Profit Margin = (Net Profit)/ Total Revenue
Where Net profit =Total Revenue- Total Expenses
Brief Explanation of Net profit margin
Net Profit is one of the important Key performance indicator of the business as it shows the amount left for shareholders after dealing with all the necessary and statutory expenses. This ratio is of high interest to shareholders.
Higher the profit margin, better the business is performing.
For example:
Suppose Company A has Total revenue of $ 10,000 , operating cost as $ 1,000 ,Interest cost as $ 2,000 , cost of goods sold as $ 2,000 then the net profit margin would be as follows
Net Profit =(10,000 – 1,000-2,000-2,000) $ 5,000
And Net profit margin as 5,000/10,000 = .5
Or in percentage terms 5,000/10,000 *100 = 50 %
- Profit margin is used to compare performance of the company over the period of time.
- Rising margin shows good performance of the company and hence better dividends for shareholders.
- Management is always under pressure to either maintain or increase the profit margin.
- It has a drawback however, that is it is not suitable to compare the profit ratio of companies belonging to different industries because of different nature of expenses involved.
- It is however used to compare profit margins of same industry.
- As net profit is used, interest rates and taxes effect the final figure and hence profit margin a lot.
- Statutory Tax rates got nothing to do with company performance but still effect the profit percentage.
